What Are 3 Ways to Finance Buying Out a Partner?
I talk to business owners pretty much every day and this is a question that comes up a fair amount. Partially because there's just not a lot of places for small business owners to go get this kind of advice on the topic of “How Can I Buy Out My Partner” and, obviously Divestopedia is a good place. I do find that there's not a lot of resources, so it usually boils down to three options.
Borrow the Money
One is they can borrow the money and that tends to either be borrowing from a bank or borrowing from their partner themselves in the form of a seller note. There are advantages and disadvantages to both of those paths. Borrowing from a bank, there are government programs, SBA programs, that can help a small business owner to get a loan like this. Typically it requires some form of personal guarantee, which can be scary for a small business owner. Other options would be to maybe leverage some hard assets to the business particularly if the business has real estate. Borrowing against a building is another easy way to come up with some bank proceeds. Borrowing from your partner is another option but that tends to be sort of a fundless type of loan. The partner would be repaid over time, typically from the profits of the business. Divestopedia has a lot on their site about seller notes, we've written a blog about seller notes and how they work. Another form of a seller note would be an earn-out, where there's not a formal note but rather the exiting partner gets paid through the profits of the business over some set time going into the future. Again, that would be a sort of buy-out because there are no proceeds on day one.
Find a New Partner
The other path that people can pursue and we've certainly helped business owners with this. I'm working with a couple of partners, in a business in Arizona right now on this, which is to find a new partner. Somebody like us that's got some capital that can help you recapitalize the business, can provide that exiting partner with some cash proceeds at the transaction or maybe even provide the business, then with a little bit of additional liquidity to pursue growth plans etc.
The third is less common but you can fund an exit through a sinking fund or some kind of insurance proceeds. I was with a business owner this week and his partner is 25 years older than him. Believe it or not, the plan is to fund the buyout using insurance proceeds when the first partner dies. So again, not quite as common, a sinking fund concept would be a little bit more common in that sense. That would be the third option in terms of financing out a partner.
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